FINL: Knock to FINL’s Credibility

Finish Line revealed cause for recent weakness in an 8K out Friday confirming a disappointing launch of its new website platform on November 16th and has migrated back to its legacy site for the balance of the holiday shopping season. Sales disruptions are never a positive development, particularly this time of year compounding investor concerns over slowing industry sales trends in the first two weeks of December headed into year-end. But the financial implications of this change are less relevant to us as management credibility is. FINL is already a company that lacked credibility over how it reversed course in early 2012 noting how it would all of a sudden be an ‘investment year’. And now the fact that the stock is down 12% in a flat market in the two weeks since website problems have presumably arisen is the icing on the cake. We still like so much of what FINL is doing, but at this point, we think that it is cheap and built to stay that way until earnings dictate otherwise.

Some Other Thoughts To Consider...

We expect the impact of these site disruptions on November sales and upcoming Q3 EPS to be modest simply due to the fact that its FINL’s seasonally lightest quarter, but near-term implications to consider for 4Q and beyond include:

As with most retailers, December is the most significant revenue month of the year typically accounting for more than October and November combined. As seen in the chart below, December accounts for nearly 13% of annual footwear sales.

FINL confirmed that it had migrated back to its legacy platform on December 6th suggesting online sales underperformance was isolated to the first week assuming no additional disruptions transitioning back. December accounts for roughly 45% of FINL’s 4Q. For perspective, if we assume ALL online sales were lost during this first week and that the first week accounts for 12-15% of FINL’s 4Q with online at ~11% of total sales at higher profitability, then we’re looking at a $4-$8mm hit to sales, or $0.01-$0.03 in EPS.

We also have to take the costs related to this initiative into consideration relative to FINL’s $90mm capital spending plan. Up to $30mm was spent on upgrading IT infrastructure including various supply chain and merchandise systems as well as technology to support digital growth. While it’s unclear how much was allocated to Demandware and its new website, there is no indication that the ‘plug has been pulled’ altogether on the new platform.

The launch of the platform just 7-days prior to the busiest shopping day of the year gave both parties little time to work through typical transition adjustments. There’s no indication of when or if FINL plans to migrate back to the new platform. However, in an 8K released by Demandware Friday the company noted that FINL “concluded that it would suspend operation of the site” suggesting the move back to the legacy platform is not permanent. As such, related investments should not be considered sunk costs unless otherwise noted.

Lastly, the potential impact on FINL’s recently announced partnership with Macy’s. We think the risk is modest given that this is a front-end consumer interface issue with FINL’s site and the Macy’s deal is more of a back-end inventory and assortment management agreement. The two are largely if not completely unrelated. We think the concern is more one of operational reputation risk. In all likelihood, management made the move to transition again at a less critical time to avoid any such issue. As a reminder, the deal with Macy’s is slated to start April 1st.

We have adjusted our estimates to reflect the loss in higher profit online sales taking FINL EPS down a penny to $0.10 in 3Q and $0.03 to $0.82 in 4Q. While FINL is trading at a modest 9x our $1.97 FY13 estimate, the absence of positive catalysts over the near-term suggests a meaningful move higher before year-end is unlikely. In fact, we’re not convinced FINL’s 3Q earnings call scheduled for January 3rd is going to be much of a catalyst given the that the name is in a ‘show me’ mode. In addition, management will be absent at ICR in mid-January due to annual board meeting scheduling conflicts. To that end, with 4Q results and the Macy’s launch slated right around the same time (April 1st), we expect FINL to be largely range-bound over the next two months.

Citing Thursday’s note, we remain positive on NKE and FL here.

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12/17/12 01:47 PM EST

Tracking Macau

Average daily table revenue (ADTR) in Macau was HK$775 million in the past week, down from HK$930 million in the first 10 days. ADTR actually fell 1% year-over-year. The first 10 days of the month were actually quite positive with hold percentage running high at most places sans Wynn. We predict that gross gaming revenue year-over-year growth will be in the range of 10-14%. Right now, Las Vegas Sands (LVS) looks to be the leader in terms of gaining market share while WYNN struggles.

NEW TIME: U.S. Monetary Policy & Fiscal Cliff Expert Call with John Taylor

We will be hosting an expert conference call tomorrow, December 18th, at 1:30pm EST featuring Professor John B. Taylor of Stanford University. Professor Taylor is a highly regarded scholar known for his research on the foundations of modern monetary theory and policy, which has been applied by central banks and financial market analysts around the world. In the call entitled, Will Monetary Policy Take Us Over the Fiscal Cliff?, Professor Taylor will discuss our nation's current fiscal situation and the policy actions that are essential to augment our economy.

Please dial in 5-10 minutes prior to the 1:30pm EST start time using the number provided below. A link to the presentation will be distributed before the call, if you have any further questions email .

Toll Free Number:

Direct Dial Number:

Conference Code: 485213#

KEY TOPICS WILL INCLUDE:

Economic problems still remain detrimental to the nation's economic stability following the Presidential Election

Continued policy to not deleverage has hindered economic growth

Fiscal, regulatory, and monetary

A drag will continue even if the fiscal cliff is avoided

Risks are two sided

A change in policy will bring back strong growth and stability

ABOUT JOHN TAYLOR:

Currently a Professor of Economics at Stanford University and a Senior Fellow in Economics at the Hoover Institution

Formerly served on the President's Council of Economic Advisers and as a member of the Congressional Budget Office's Panel of Economic Advisers

Served as Under Secretary of Treasury for International Affairs from 2001- 2005

Oversight of the International Monetary Fund and the World Bank

Responsible for coordinating financial policy with the G-7 countries

Accredited author, his latest the winner of the 2012 Hayek Prize, entitled: "First Principles: Five Keys to Restoring Americas' Prosperity"

Received numerous awards for his work as a researcher, public servant, and teacher

Awarded the Alexander Hamilton Award for his overall leadership at the U.S. Treasury, the Treasury Distinguished Service Award for designing and implementing the currency reforms in Iraq, and the Medal of the Republic of Uruguay for his work in resolving the 2002 financial crisis

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12/17/12 11:47 AM EST

CMG BOTTOMING PROCESS COULD TAKE TIME

We think there is modest downside to Chipotle’s share price. That being said, our favorite short idea in the QSR space is BKW. As far as the long side of CMG goes, we would possibly become more constructive on the stock closer to $250.

Below, we run through some fundamental, macro, and sentiment factors that we think are important for CMG going forward. In particular, we would highlight new unit performance as a key metric to focus on when trying to get comfortable with the intermediate-to-long term outlook for the stock.

Top-Down View

Chipotle’s stock price has cratered since early 2012, declining almost 40% from its peak in April. Picking the bottom is likely to be difficult, albeit not as difficult as picking the top, but we believe that the bottoming process is going to take several quarters as the fundamentals flush out.

Macroeconomic growth is an important driver of Chipotle’s business. The following chart shows that something clearly has gone awry with the Chipotle growth model; average unit volume growth has decelerated in recent quarters.

Fundamental Outlook

Same-restaurant sales growth has come in meaningfully as the company is struggling to re-accelerate top line growth. Average check has been negatively impacted by lower drink sales and the outlook for FY13 comps is flat-to-low-mid-single-digit growth. Two further “difficult” top-line compares remain before we can start to expect higher same-restaurant sales growth numbers. The favorable weather in 1Q11 added, by management’s estimation, contributed 100-200 bps to the quarter’s same-restaurant sales growth number. We believe that there is a stong possibility that CMG posts negative SRS in one or both of the next two quarters. Consensus expectations are for the company to maintain positive SRS over the next two quarters.

Total sales growth has been decelerating, sequentially, for the past couple of quarters. As long as Chipotle is growing at a mid-teen percent-rate, we will focus on the growth in new unit volumes as a signal of likely improving sales growth for the company.

We believe that new unit average unit volume growth has, and will continue to be a critical metric for this stock. In terms of picking inflection points in growth, the performance of new units has been the one signal worth watching over the past few years. For the stock to begin the bottoming process we must also see a stabilization in new unit volume performance. If the new unit continue to underperform the real estate strategy and the accelerated pace of development will be called into question.

Restaurant-level margins remain the wild-card of 2013, in our view. Chipotle’s restaurant operating margins are vulnerable to swings in commodity prices as the company purchases its ingredients on the spot market. Inflation is currently running at low-single-digit levels, driven by higher dairy and meat prices. Ultimately, margins in 2013 are sensitive to more adverse weather conditions that impact protein prices. Guidance is also baking in avocado prices remaining at current levels next year

Labor costs have been a source of margin expansion for CMG for years as the company’s efficient operating model has been complemented by strong traffic gains. Now that traffic growth has decelerated considerably, we think that there is heightened risk in assuming continuing leverage to be driven through the labor line.

In aggregate, the outlook for the company’s Return on Incremental Invested Capital is still uncertain and we believe that the company slowing growth, and cutting capex, could serve as a catalyst to take a long position in the stock at a lower price. Currently, with capex growth far out-stripping sales growth, we would not sleep too well the night before Chipotle’s next earnings call if we were to buy in at this level. Longer-term, we believe the company’s business model is likely to deliver strong returns for shareholders but our confidence in near-term ROIIC is less firm.

Sentiment & Valuation

The investment community’s view of CMG has changed drastically in 2012 but we would point to historical precedent as a suggestion that the Street can likely become more bearish from here. Short interest has been rising since May. It’s worth noting that, the last time this company’s growth model was encountering problems of the magnitude that it now seems to be facing, short interest as a percentage of the float was in the 30’s.

We hold a similar view of the valuation outlook for CMG. We believe that there is further downside risk to FY13 EBITDA and EPS estimates. While the multiple has come in, it is possible that the bottoming process could take some time if we are right that there are negative revisions to estimates coming over the next few quarters.

Howard Penney

Managing Director

Rory Green

Senior Analyst

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12/17/12 11:20 AM EST

Bullish: SP500 Levels, Refreshed

I was more confident buying red on Thursday-Friday (1% correction in the SP500 from the latest Bernanke lower-high) than I ordinarily would be because: A) TRADE support held and B) our Macro Research call was getting confirming data of global #GrowthStabilizing.

Across our core durations, here are the lines that matter to me most:

Immediate-term TRADE resistance = 1431

Intermediate-term TREND support = 1419

Immediate-term TRADE support = 1408

In other words, there’s a load of support developing in the 1 range, and with short interest as high as it’s been since early SEP, I think the Pain Trade has gone from down to up.

I even bought AAPL on red ($502.50) today, for a trade. Fun.

KM

Keith R. McCullough Chief Executive Officer

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12/17/12 10:55 AM EST

Changing Tides In Europe

Looking at the Eurozone, risk decreased across several nations while Germany and Italy saw a slight uptick in yield. Greece declined -1.54% to 12.92%, Portugal fell -47 basis points to 7.09% and Spain dropped -8 basis points to 5.38%. Geramany and Italy rose +6 basis points and +5 basis points, respectively. Yields have fallen considerably since highs made in April of this year but have yet to reach levels seen in 2009/2010.

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